Land Bank of Taiwan as Trustee for the Industrial Bank of Taiwan Corporate Loan Securitization Special Purpose Trust 2004-1 - CLO3

Analysts:
Claire Chang, Taipei
Diane Lam CFA, Hong Kong
Gloria Lu CFA, Hong Kong
Clementine Kiang, Taipei
Jerry Fang, Taipei

This report does not constitute a recommendation to buy, hold, or sell securities.

Rating Details

* The annual coupon rate is based on the prevailing 180-day commercial paper market rate for different periods after closing.

Profile

Rationale
The ratings address the timely payment of interest and full payment of principal on or before the senior certificates' legal maturity in May 2010. The senior beneficial certificates are backed by a static pool of corporate loans (the loan portfolio) originated by Industrial Bank of Taiwan (IBT).

The ratings are based on:
¡P The credit quality of the portfolio;
¡P The level of credit support for the different classes of senior certificates provided by subordinated certificates and equity;
¡P The establishment of a liquidity reserve;
¡P Sufficient cash flow to meet timely payment of interest and ultimate repayment of principal by the final legal maturity for each class of certificate holders under various stress scenarios;
¡P The experience of the servicer in managing and collecting corporate loans in Taiwan;
¡P The ratings of the supporting parties such as bank account providers and eligible investments. However, the rating for the Class 3 senior certificates does not consider the benefits of the guarantee from IBT;
¡P The sufficiency of collateral to monetize all future net payments from the swap counterparty, eliminating any rating dependency on the swap provider or exposing the transaction to the insolvency risk of the swap counterparty;
¡P Satisfactory legal and tax opinions, and
¡P The bankruptcy remoteness of the issuer.

Originator
IBT was officially set up as an industrial bank in July 1999. As of the date of the publication of this report, Taiwan Ratings' long-term counterparty credit rating on IBT was 'twBBB-' and its short-term rating on the bank was 'twA-3'. The outlook on the long-term rating is stable.

Transaction Overview
At closing, IBT entrusted a 31-obligor portfolio to Land Bank of Taiwan as the trustee for the SPT. The SPT then issued two types of certificates, namely senior beneficial certificates and subordinated beneficial certificates. The senior beneficial certificates, consisting of Classes 1-3, were sold to investors and the proceeds will ultimately be paid to IBT. Classes 1-3 were distributed by public offering, while Classes 4-6 subordinated beneficial certificates were issued to IBT.

Terms of the Senior and Subordinated Beneficial Certificates
The certificate holders of Class 1 will receive semi-annual floating-rate interest and certificate holders of Classes 2-5 will receive semi-annual fixed-rate interest at different annual interest rates. Interest on Class 6 certificates is not stipulated. Class 6 notes are entitled to residual interest collections, if any. This class will be paid any amount that may remain in interest collections after all senior and junior expenses as well as interest on the first five classes are settled in full.

Under the terms of conditions of Class 1, investors receive a floating interest rate, which is dependent on the prevailing 180-day commercial paper (CP) market rate for different periods after closing. Investors should note that it is possible that, under certain conditions, they may not receive any interest under Class 1 but this type of situation does not result in an event of default for Class 1 since no interest is due or payable.

Class 3 is supported by a guarantee issued by IBT. This guarantee covers any shortfalls due to default of obligors on principal or interest of Class 3 at the final legal maturity or upon any interest payment date. The rating assigned does not consider the benefit of the guarantee from IBT. This guarantee document has not been reviewed by Taiwan Ratings although non-payment of amounts due to the guarantor should not result in an event of default of any of the Classes. Taiwan Ratings' analysis for Class 3 is based purely on the cashflow and asset quality and therefore, a downgrade of the guarantor would not result in a downgrade of Class 3.

Article 41 of the Financial Asset Securitization Law stipulates that income from trust property, after deduction of costs and necessary expenses, belong to the beneficiaries. The trustee is responsible for withholding tax from interest due to certificateholders. Consequently, interest received by certificateholders will be net of tax withheld.

Although principal payments will be made on a pass-through basis every 6 months, and obligors are not allowed to prepay, investors may be subject to prepayment risk on principal received prior to the final legal maturity of 2010 if early amortization event happens. The principal on Class 6 beneficial certificates will only be paid after Classes 1-5 certificates have been completely paid off.

The Loan Portfolio
As a static pool transaction, IBT is not entitled to entrust new loans to the SPT or substitute any existing loans after closing. As at the closing date, the key attributes of the loan portfolio are as follows:
¡P 31 obligors and 31 bilateral loans;
¡P Senior unsecured or senior secured loans;
¡P Fixed-rate and fixed-term;
¡P A weighted average life of 2.30 years;
¡P Newly originated;
¡P Non-revolving;
¡P Amortizing payment schedule;
¡P Set-offs against obligors' deposits with IBT are not allowed;
¡P Assignment of obligation to third party by obligors is not allowed.

Largely reflecting the composition of Taiwan's economy, the loan portfolio is concentrated in a number of obligor industries, including steel, semiconductors, telecommunications, computer storage and peripherals, automotive, and chemicals & plastics. Industries with an obligor concentration in excess of 5% of the pool as of the closing date are as follows:

Credit And Cashflow Analysis
As most of the obligors are not publicly rated, Taiwan Ratings performed credit assessments on all of the unrated obligors to determine their credit quality.

The results of such credit assessments, obligor and industry concentrations, and loan maturities were then inputted into Standard & Poor's CDO Evaluator to determine the default risk of the loan portfolio. Using Monte-Carlo methodology, the CDO Evaluator took into account the probability of default on each loan, obligor concentration and correlation among obligors from the same industry of the loan portfolio to determine the maximum level of portfolio defaults that a CDO class was able to withstand at a given rating level.

To verify that timely payment of interest and ultimate repayment of principal on the senior beneficial certificates can be met, Taiwan Ratings performed a cash flow analysis and subjected the transaction to a variety of stress scenarios.

Structural Analysis

Commingling risk.
There is no commingling risk. All obligors are required to remit their payments directly to a special bank account designated for the SPT with Chinatrust Commercial Bank (twAA-/Stable/twA-1).

Obligor set-off risk.
There is no set-off risk by virtue of a specific waiver of the rights of set-off by the obligors, which is supported by legal opinions that such waiver is legal, enforceable and binding under Taiwan laws.

Interest rate risk.
Class 1 senior certificates bear interest based on the 180-day CP market rate, whereas 37% of the collateral pool consists of fixed-rate obligations. To insulate floating-rate certificate holders from interest rate mismatches, at closing, the SPT entered into an interest rate swap arrangement with Capital Securities (twBBB/Positive/twA-3). Under this swap, the SPT pays a fixed coupon rate to Capital, which in turn pays a floating coupon rate that matches the contractual interest rate for Class 1 senior certificates. As the rating of the swap counterparty was not commensurate with the twAA rating assigned on the Class 1 senior certificates, Capital Securities placed sufficient cash to cover its maximum payout through to the final legal maturity date in a newly formed Hedging Settlement Reserve Trust established in the name of the Land Bank of Taiwan (the trustee) and in so doing, there is no longer any rating reliance on Capital Securities to perform under the swap contract. The amount in this trust may be reduced in accordance with the transaction documents.

Prepayment risk.
The borrowers do not have the option to prepay. The only situation where the obligors prepay is when payment acceleration occurs. Payment acceleration includes, among other things, recall of loans due to covenant breaches under the terms of loan agreements. Negative carry is partially incorporated in the liquidity reserve. A conservative cashflow model is used to provide an extra buffer against additional negative carry.

Liquidity risk.
The liquidity risk is minimal. By definition, a loan is considered in default when it is one day overdue. Consequently, the cashflow model does not take delinquencies into account. No recovery is assumed in the model either.

Servicing.
IBT acts as the initial servicer for the loan portfolio. Upon the occurrence of certain events, Land Bank of Taiwan will replace IBT as the servicer for the transaction. To provide additional liquidity to cover possible interruptions in cashflow to the certificates that may occur during a servicer transition, a liquidity reserve was fully funded at closing to meet senior expenses for the transaction.

Legal Analysis
The transaction is structured in accordance with the Financial Asset Securitization Law of Taiwan, which provides for the establishment of the SPT, the transfer of assets from the originator to the SPT, and protection from obligors and third parties. Taiwan Ratings received satisfactory legal and tax opinions prior to the closing of the transaction.